CEPR The Impact of Cutting Social Security COLAs on the Living Standards of the Elderly
During the negotiations over raising the debt ceiling, President Obama proposed cutting the annualcost of living adjustment for Social Security by switching to an index that would show a lowermeasured rate of inflation. This alternative index, the chained consumer price index (C-CPI-U),shows an annual rate of inflation that averages approximately 0.3 percentage points less than theconsumer price index (CPI-W) that is currently used to index benefits. While this change would lead to $122 billion in savings to the government over the next decade, italso means that beneficiaries would receive lower benefits.
The effect will initially be small, just 0.3percent in the first year, however it becomes more significant the longer a beneficiary lives. After tenyears, benefits will be almost 3 percent lower as a result of the use of the C-CPI-U, after twenty years benefits would be lowered by almost 6 percent, and after thirty years benefits would be almost9 percent lower.Since the vast majority of retirees rely on Social Security for the bulk of their retirement income, thiscut in the cost of living adjustment would imply a substantial reduction in the standard of living of retirees, unless they offset it by saving more during their working years or retiring later in life. While we cannot know for sure how workers in future years will adjust their behavior, it is possible toassess their past response.
Previous Changes to the CPI and Worker Response
In the mid and late 1990s there were a series of changes to the CPI that had the effect of reducing the measured rate of annual inflation by 0.5-0.7 percentage points. The changes put in place, along with their estimated impact on the CPI and the year in which they were put in place, is shown in
. According to these estimates from the Council of Economic Advisers, the cumulative effect of thesechanges was to lower the measured rate of inflation by 0.69 percentage points. This may haveoverstated the impact slightly. A reduction in the measured rate of inflation by 0.5 percentage pointsis probably somewhat closer to the mark.
Congressional Budget Office, 2011. “Reducing the Deficit: Spending and Revenue Options.” Washington, DC:
Congressional Budget Office, Option 27, available at http://www.cbo.gov/doc.cfm?index=12085.2 The impact of the updated market basket, which meant the more frequent changing of the goods and services in theindex, would not be expected to have any systemic effect on the measured rate of inflation although it would meanthat the measure more accurately reflects the change in prices of goods that consumers are actually purchasing.